Fees include lender fees, valuation fees and legal fees.
Costs were at a peak in 2010 when they added 0.66% to the average cost but this has since fallen to around 0.57%. Unsurprisingly, fees have a greater impact on short term (i.e. two year) mortgages. In 2010 they added an average of over 1.13% to annual costs whereas this is now around 0.85%.
The results were revealed in 12 indices which track the average buy to let mortgage costs of two, three and five year fixed rate and discounted/tracker mortgage products at 65% and 75% loan to value.
The data was extracted from details of more than 16,000 buy to let mortgage products from 2008 onwards, held in Mortgage Flow, the broker’s bespoke sourcing tool.
Commenting on the indices, David Whittaker, managing director of Mortgages for Business said:
“By including fees we have produced indices that more accurately reflect the costs of taking on a buy to let mortgage without the distortions caused by the way lenders structure fees on products to meet marketing requirements.
“Lender arrangement fees vary enormously. Some products carry a flat fee but most have percentage fees which can be in excess of three per cent. This can make headline rates extremely misleading.”
For example, currently one of the lowest headline rates is 2.74% fixed for two years (5.1% APR) offered by The Mortgage Works. However, it comes with a hefty 3.5% arrangement fee as well as the valuation and legal fees which means that over two years the percentage cost is nearer 4.81% - although this “true” cost is still cheaper than the current reversionary rate for products from The Mortgage Works of 4.99%.
The report also suggests that using the APR as an overall cost for comparison as legislated by the FSA doesn’t particularly help borrowers understand the true costs involved because it fails to recognise the incentive to borrowers to re-mortgage at the end of the fixed rate / discount period.
Whilst fees can add a considerable amount, the research also revealed that rates have been falling steadily since they peaked in 2008 during the financial crisis which is great news for investors at a time when demand for rental accommodation continues to outstrip supply.
Perhaps more interestingly from a macro-economic perspective, the indices provide evidence that the average margin over index costs has stabilised. In early 2008 discount/tracker buy to let mortgages cost around 1% more than LIBOR and fixed rate products cost around 1.5% above the related term swap. By mid-2009, as bank funding costs fell in response to Bank Base Rate being cut to 0.5%, this margin increased to around 4-5% for both product types and has stayed at this level ever since.
This increase in margins is caused primarily by the increased perception of risk in all financial institutions who are paying a far higher “risk premium” to raise deposits that they did five years ago. This is also reflected in the interest rates paid for deposits by banks on the high street. Whereas they used to pay around 1% less than BBR for term deposits, they are now paying around 2% above BBR to attract funds.
Basel III regulations will, over time, require banks to double both their capital and liquidity margins. This additional capital “safety margin” within banks has had an inevitable effect on the cost of making loans and will help to ensure that lending margins do not revert to pre-crisis levels. However, in the current market, rates are being driven down by the Finance for Lending Scheme and this should ensure that margins do not increase at least until after the scheme is due to expire in January 2014.
